6.

1 – Government Economic Policies and

Objectives

Economic Objectives

Here, we’ll look at the different economic objectives a government might have and how
their absence/negligence will affect the economy as well as businesses.

Maintain economic growth: economic growth occurs when a country’s Gross

Domestic Product (GDP) increase i.e. more goods and services are produced than in
the previous year. This will increase the country’s incomes and achieve greater living
standards.
Effects of reducing GDP (recession):

As output falls, fewer workers will be needed by firms, so unemployment will rise
As goods and services that can be consumed by the people falls, the standard of
living in the economy will also fall
Achieve price stability: inflation is the increase in average prices of goods and
services over time. (Note that, inflation, in the real world, always exists. It is natural
for prices to increase as the years go by. In the case there is a fall in the price level, it is
called a deflation) Maintaining a low inflation will help the economy to develop and
grow better.
Effects of high inflation:

As cost of living will have risen and peoples’ real incomes (the value of
income) will have fallen (when prices increase and incomes haven’t, the
income will buy lesser goods and services- the purchasing power will fall).
Prices of domestic goods will rise as opposed to foreign goods in the market.
The country’s exports will become less competitive in the international
 market. Domestic workers may lose their jobs if their products and firms
don’t do well.
When prices rise, demand will fall and all costs will rise (as wages, material
costs, overheads will all rise)- causing profits to fall. Thus, they will be
unwilling to expand and produce more in the future.
The living standards (quality of life) in the country may fall when costs of
living rise.

Reduce unemployment: unemployment exists when people who are willing and able
to work cannot find a job. A low unemployment means high output, incomes, living
standards etc.
Effects of high unemployment:

Unemployed people do not produce anything and so, the total output/GDP in the
country will fall. This will in turn, lead to a fall in economic growth.
Unemployed people receive no incomes, thus income inequality can rise in the
economy and living standards will fall. It also means that businesses will face low
demand due to low incomes.
The government pays out unemployment benefits to the unemployed and this will
rise during high unemployment and government will not enough money left over
to spend on other services like education and health.

Maintain balance of payments stability: this records the difference between a

country’s exports (goods and services sold from the country to another) and imports
(goods and services bought in by the country from another country). The exports and
imports needs to equal each other, thus balanced.
Effect of a disequilibrium in the balance of payments:

If the imports of a country exceed its exports, it will cause depreciation in the
exchange rate– the value of the country’s currency will fall against other foreign
currencies (this will be explained in detail here).
If the exports exceed the imports it indicates that the country is selling more goods
than it is consuming- the country itself doesn’t benefit from any high output
consumption.

Reduce income equality/achieve effective income redistribution: the difference/gap

between the incomes of rich and poor people should narrow down for income
equality to improve. Improved income equality will ensure better living standards
and help the economy to grow faster and become more developed.
Effects of poor income equality:

Inequal distribution of goods and services- the poor cannot buy as many goods as
the rich- poor living standards will arise.

 
The Business/ Trade Cycle

An economy will not always go through an economic growth; there is usually a cycle, as
shown below.

Growth– when GDP is rising, unemployment

is falling and there are higher living
standards in the country. Businesses will look
to expand and produce more and will earn
high profits.

Boom– when GDP is at its highest and there is

too much spending, causing inflation to
rapidly rise. Business costs will rise and firms
will become worried about how they are
going to stay profitable in the near future.

Recession– when GDP starts to fall due of high prices, as demand and spending falls.
Firms will cut back production to stay profitable and unemployment may rise as a result.

Slump– when GDP is so low that prices start to fall (deflation) and unemployment will
reach very high levels. Many businesses will close down as they cannot survive the very
low demand level. The economy will suffer.

(When the government takes measures to increase demand and spending in the economy
to take it from a slump to growth, it is called as the ‘recovery’ period). The cycle repeats.

Government Economic Policies

Government can influence the economic conditions in a country by taking a variety of

policies.

SUPPLY-SIDE POLICIES
Both the fiscal and monetary policies directly affect demand, but the policies that
influence supply are very different. It can include:

Privatisation: selling government organizations to private individuals- this will

increase efficiency and productivity that increase supply as well encourage
competitors to enter and further increase supply.
Improve training and education: governments can spend more on schools, colleges
and training centres so that people in the economy can become better skilled and
knowledgeable, helping increasing productivity.
 Increased competition: by acting against monopolies (firms that restrict competitors
to enter that industry/having full dominance in the market- refer xxx for more details)
and reducing government rules and regulations (often termed ‘deregulation’), the
competitive environment can be improved and thus become more productive.

*EXAM TIP: Remember that economic conditions and policies are all interconnected; one
change will lead to an effect which will lead to another effect and so on, like a chain
reaction in many different ways. In your exams, you should take care to explain those
effects that are relevant and appropriate to the business or economy in the question*
How might businesses react to policy changes? It will depend varying on how much
impact the policy change will have on the particular business/industry/economy. Here are
a few examples: